Sony Corp. (6758)’s strategy to shield its PlayStation game unit from a strengthening yen is backfiring as the currency heads in the other direction this year, leading to losses ahead of a new console debut for the U.S. holidays.
Those currency-related losses are poised to deepen as analysts project a further 10 percent rise in the dollar by the end of Sony’s year in March, based on 74 analysts’ estimates compiled by Bloomberg. That would put the yen at about 106 to the dollar, compared with 96.6 today and 86.7 at the start of 2013. Sony predicts the rate will remain around 100 yen.
While the weaker yen will lift the value of sales abroad for the new PlayStation 4, margins will be crimped as parts and production are paid for in dollars. The swing complicates Sony’s effort to profit in games and challenge Microsoft Corp. (MSFT:US)’s dominance of the U.S. game market as both unveil new consoles. Game-unit earnings will “deteriorate significantly,” Sony said Aug. 1. Three months ago, Sony predicted it would break even.
“It’s going to be tough for Sony’s game business this fiscal year if the yen continues to get weaker,” said Hideki Yasuda, an analyst at Ace Research Institute in Tokyo. He cut his forecast for annual operating profit by 5.9 percent to 230 billion yen ($2.38 billion) after Sony’s Aug. 1 announcement. “Selling fewer PS4s this fiscal year would mess up its plan for the coming five years.”
As the yen rose 18 percent against the dollar from 2009 to 2011, Sony relocated some console production to contractors in China and elsewhere in Asia. The company agreed to pay suppliers in U.S. currency to reduce costs as it made plans to challenge Microsoft in the U.S. video-market.
Now, the yen is dropping as a result of Abenomics, Prime Minister Shinzo Abe’s plan for fiscal and monetary stimulus. The dollar is up 11 percent against Japan’s currency this year.
“The currency trend will lead to a result worse than break-even, if just looking at the impact by the currency,” Chief Financial Officer Masaru Kato said on an Aug. 1 call when the company posted fiscal first-quarter results. In May he said Sony would lose 3 billion yen in annual operating profit for every one yen decline against the dollar this fiscal year.
While the bottom line at the game unit suffers, the weaker yen will boost total revenue at Sony, which gets almost 70 percent of sales overseas. The company raised its sales forecast for the year ending in March by 5.3 percent to 7.9 trillion yen on Aug. 1. The forecast for total operating profit was unchanged from May.
The shares, which have more than doubled this year on optimism that Chief Executive Officer Kazuo Hirai can turn around Sony’s struggling electronics business, fell 1.3 percent to 1,927 yen yesterday in Tokyo. Sony American depositary receipts rose 0.4 percent to $20.20 in New York.
The PlayStation 4 is a crucial element in Hirai’s plan to revive Sony, which lost its lead in video games in the last generation of consoles. The new player has drawn attention from billionaire investor Daniel Loeb, who has unsuccessfully sought a partial sale of the company’s entertainment unit.
On a call with overseas Sony investors last week, Loeb asked about the outlook for PlayStation 4 profitability and early consumer response. He has praised Sony executives on their management of the introduction so far.
The game unit posted an operating loss of $149 million in the quarter ended June 30, Sony said. Revenue, including inter-segment revenue, was little changed at $1.19 billion.
While the competition between the PlayStation 4, Microsoft’s new Xbox One console and Nintendo Co. (7974)’s year-old Wii U will play out globally, Hirai has set a goal to be No. 1 in game consoles in the U.S., the biggest chunk of the $67 billion video-game market.
“There’s going to be pretty fierce competition between Microsoft and Sony to win in the U.S.,” said David Cole, an analyst with DFC Intelligence, a San Diego-based market researcher. “It’s all going to come down to the games and marketing and how they position their systems.”
Both Sony and Redmond, Washington-based Microsoft will release their machines in the U.S. and Europe before Asia. With the yen weakening against the dollar and the euro, sales from those markets becomes even more important for Sony to counter rising costs.
Sony may be able to mitigate some of its currency risk by pricing the PlayStation 4 higher in Europe, at 399 euros, and at 349 pounds in the U.K. The company’s annual operating profit would be boosted by 7 billion yen for every one yen decline in value against the European currency, according to George Boyd, a spokesman.
In the last go-round in consoles, Sony placed third in the U.S., according to NPD Group data through 2010. Microsoft overtook the Wii two-and-a-half years ago and has led since.
This time, Sony has won positive press early. The unveiling of the PlayStation 4 in June impressed game enthusiasts and industry analysts with its $399 price, compared with $499 for the Xbox One, and policies that included unrestricted swapping and trade-ins of used games. The Wii U, released in November, has missed company sales forecasts.
The new PlayStation, with a combined processor and memory architecture from Sunnyvale, California-based Advanced Micro Devices Inc. (AMD:US), features a PC-like design that Sony executives say will make developing games easier. The decision not to use custom chips reduced manufacturing costs, a point CFO Kato reiterated last week in response to a question from Loeb.
“The amount of investment is much, much smaller,” Kato said on the call. “I cannot give you the absolute amount.”
Sony is trying to prevent losses it incurred seven years ago when introducing PlayStation 3. Nintendo led global sales by introducing motion-sensing controllers for the Wii as a new way to play. Microsoft matched the feature with its Kinect peripheral, and won over non-gamers by offering entertainment, such as Netflix and sports, on its Xbox Live service.
Sony, left to pitch the expensive $599 PlayStation 3 as a Blu-ray movie player, lost more than $3.5 billion in 2007 and 2008 as the machine languished on shelves. Hirai has said the PlayStation 3 didn’t turn profitable until late 2011.
“We will not generate anything like the losses we did for the PlayStation 3,” said Andrew House, CEO of Sony Computer Entertainment.
The weakening yen is also an issue for Sony’s smartphone operation, Kato said in May. Like the PlayStation unit, Sony’s mobile-phone business uses Asian producers and procures in dollars. In emerging markets like India, Russia and Brazil, the dollar’s strength is weighing on profit, company officials said on Aug. 1. PlayStation 3 consoles are mostly made in China by contractors, said Sosuke Kamei, a Sony spokesman.
“It’s not easy for Sony to find a countermeasure that it can take in a short term,” said Keita Wakabayashi, an analyst at Mito Securities Co. in Tokyo who has a neutral rating on the stock. “Maybe the company can increase procurement of Japan-made key components, but it’s not realistic to bring factories back to Japan.”
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